The first quarter of 2009 encompassed two very different market environments. 

In January and February, global markets continued their unprecedented sell-off and exceeded November 2008 lows, driven by investors' belief that the global economy was in a very protracted recession. Despite a steady stream of government policy initiatives, volatility rose again and investors continued to be risk-adverse. In general, despite the negative returns, investors tended to favor growth over value stocks, avoiding the financial sector. But despite the price declines, there were signs in a number of markets that corporate fundamentals and valuations were starting to be a focus of investors, rather than just the macro-economic picture.

March however, was one of the strongest months on record for global equity markets. The rally was sparked by government intervention in the financial industry, anticipation of moderating economic news, and perhaps a bottoming in corporate profits. Driven by speculation, cheap and fundamentally unattractive companies -- particularly banking and capital market stocks -- rose in price. Nonetheless, this market surge may start to instill confidence and grant encouragement to long-term investors who have yet to come back into the market -- a necessary process in laying the foundation for a sustained recovery.

At first glance, March's rally appears fairly broad-based, as every market and 77% of stocks in the S&P Developed Ex-U.S. Broad Market Index rose in absolute terms. However, deeper analysis reveals that the leadership was very narrow and speculative and likely sparked by short covering, as outlined below: 

• Stocks that delivered negative earnings surprises gained 12% in March compared with only .70% for the 20% of stocks with the largest earnings surprises. Many of these companies are not expected to earn a profit this year and are continuing to deliver results lower than their diminished expectations.
  


• The 20% of international companies with the lowest price-to-book ratios (under .74) were up 14%, accounting for almost half of the performance of the international cap markets for the month. Many of these stocks were among the most punished and short-sold names. 
  


• Lowest priced stocks within the index, those under $1, were up 14% during the month, while stocks above $20 gained only 7%. Lowest priced stocks are often the most speculative.
  


• Last, the highest beta stocks gained nearly 13% for the month. In contrast, the lowest beta stocks were up only 4%. These are typically the stocks that are most sensitive to the market and the most speculative.
  

• Stocks that delivered negative earnings surprises gained 14% in March compared with only 6% for the 20% of stocks with the largest earnings surprises.
  


• Lowest priced stocks within the index, those under $3, were up 26% during the month, while stocks above $20 gained only 8%. Lowest priced stocks are often the most illiquid and speculative.
  


• The highest beta stocks gained nearly 12% for the month. In contrast, the lowest beta stocks were up 6.6%. These are typically the stocks that are most sensitive to the market and the highest risk. 
  


• Last, cheapest stocks led the rally. Stocks that were in the lowest price-to-book quintile were up 11%, illustrating that deep value without regard to fundamentals led the market.
  
  Fallen financial, consumer discretionary, and cyclical stocks reflect many of these characteristics. Our concern is that March 2009 felt a lot like December 2008 -- a typical bear market rally driven by market participants trying to call a bottom in cheaply priced stocks or by covering their shorts. For this to be a true market recovery there needs to be new leadership driven by fundamentally attractive companies - not those that have led the rally thus far. 
  
  In summary, it appears that global equity markets may have reached bear market lows in early March. However, we suspect that volatility will remain high and rallies should be viewed with caution unless they are driven by fundamentals and valuations -- not by speculation. There are signs that the economic landscape is stabilizing and we continue to adhere to our long term, fundamentally-based stock selection process, looking for undervalued companies where management is executing well and growth is exceeding expectations.